Thursday, May 10, 2007

Dot Bomb 2.0?

Commenting on some of the sky high acquisition prices for Internet companies with little or no revenues, Don Dodge writes:

I grew up in Maine, and I am reminded of the negotiations between two farmers from Maine at the county fair.

One farmer was showing off his "blue ribbon" dog and proposing to sell it for $100,000. The other farmers were laughing hysterically at the idea of a $100K dog. Dogs don't produce income. How could a dog be worth $100K?

Then one farmer stepped up and offered to trade two of his $50,000 cats for the $100K dog. The dog owner quickly agreed and bragged to all his friends how he sold his dog for $100K.

Acquisitions that are done as stock swaps are obviously not the same as cash transactions. Public companies often use their stock as trading currency for acquisitions since it has no cash impact on their business.

However, stock transactions dilute the value of other shareholders, sometimes significantly. In a rising stock market no one really notices because the steady share price increase masks the dilution. When the stock market turns the problems are exposed...and magnified.

We have seen this before. It was the nuclear winter that lasted from 2000 to 2003. It is amazing how quickly we forget. As I always say "fear is temporary...greed is permanent".

Another round of absurd deals, hustling inflated stocks, and, eventually, a rush for the exits as everyone tries to avoid being the greater fool? Are we on our way to Dot Bomb 2.0?